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With a solid rise in income and a reduction in poverty, Azerbaijan weathered the recent global economic crisis much better than many other countries. But the post-crisis world is not free of challenges. While it withstood the crisis relatively well, the situation showed Azerbaijan’s need for a diversified economy, market-based policies and better social services.

The country has a unique opportunity to enter the ranks of higher middle-income countries, evidenced by the decline in the poverty rate from 50 percent in 2001 to 7.6 percent in 2011. While some of this improvement was driven by high growth rates, a strong increase in wages, and the introduction of a well-targeted social benefit system, much of it resulted from a jump in oil and gas revenues.

However, these revenues are likely to stagnate over the coming decade and then to decline, so the country must diversify to strengthen its economic position. Even the new natural gas fields coming into production are unlikely to compensate for the revenues that the oil sector has provided. To foster continued improvement in the economy and to increase employment rates, Azerbaijan must find new, sustainable sources of growth in the non-oil sector.

Better infrastructure is critical in Azerbaijan. Its geographical position makes it an important link between the Black and Caspian Seas and between Russia and Iran. Achieving Azerbaijan’s potential as a transit economy is essential for the stimulation of economic growth, non-oil economic development, and safety and for the reduction of poverty. Improvement of the road network has been identified as one of the priorities for production diversification for the country.

Education is another key area, and the urgency for sustainable long-term reforms has increased, given the country’s desire to join other upper middle-income countries. Enrollment rates in pre-school and higher education are still low and the quality of educational results shows room for improvement. The World Bank supports the Azerbaijan government’s education reform program through investment operations and policy advice.

Agriculture is a meaningful component of Azerbaijan’s non-oil economy and has significant potential for boosting export revenues for the country. While the sector only accounts for 7 percent of GDP, it is still a key source of jobs and is a priority in the context of food security.

In addition to financing several developmental projects, the Bank is also providing Azerbaijan with analytical and advisory services. This will serve a two-pronged purpose of informing the country growth strategy and policy choices as well as the design of its investment operations. The Bank, with the government of Azerbaijan, is also developing a multi-year Joint Economic Research Program (JERP) that will ensure continuous and timely access to policy advice and technical expertise.

Azerbaijan joined the World Bank in 1992.

Broadly, two pillars of Bank’s strategy in Azerbaijan are: strengthening the non-oil economy and improving the effectiveness of social and community services. The former will be achieved through better business environment, better infrastructure and agriculture improvements, while the latter will be achieved by overhauling health, education, social protection and water supply.

The Bank, therefore, is modifying its approach in many ways. It will focus on completing the implementation of existing projects, and only consider new ones where there is a strong track record of institutional capacity. The Bank will also lean towards more analytical work and policy dialogue.

In the past, World Bank operations in Azerbaijan have had mixed results and have served as learning points for present and future projects. For instance, strong results were observed in expanding access to credit, and progress was made in improving the business environment, particularly on business registration. But much work remains to be done in other areas, especially with respect to permits and inspections, which hinder private economic activity.

Results have also been delayed in larger infrastructure projects, especially road, rail and sanitation with slow implementation and in environment efforts where progress is limited. Factors that contributed to weak performance included lack of project readiness, a sharp increase in lending even as amid a dearth of implementation capacity, lack of strong project ownership and an imbalance between lending and analytical work.

For the full CPS period of FY11 to FY14, the Government has requested a total IDA/IBRD lending envelope of about $1 billion. Actual funding would be back loaded based on the principle of starting out modestly and adjusting lending volumes to performance. Over FY11-12, lending is anticipated at about $300 million in IBRD, plus about $80 million in IDA in FY11. FY11 is the last year of IDA, after which Azerbaijan will become IBRD-only.

The biggest risks Azerbaijan faces on the road to development are social and political economy challenges, slower-than-desired progress in improving institutional capacity, implementation of existing portfolio, global economic uncertainties, and regional security issues. With better calibration to client demands and capacity, stronger emphasis on analytical services, faster implementation of the existing portfolio, and cross-cutting filter of governance, Azerbaijan can mitigate these risks.

Current and completed projects in Azerbaijan include:

Agricultural Development and Credit
The project aimed to raise the productivity in Azerbaijan’s farming areas, under a new system characterized by private family and group farms operating in private markets. Its objectives also included increasing rural productivity and income by enhancing the access of farmers and small and medium enterprises to rural business and agricultural support services including financial, advisory, and veterinary services and by stimulating market oriented investments in rural areas. The project resulted in, among other things, more investments and investment loans in rural areas, proven feasibility of private veterinary services and a 30 percent rise in net income from agricultural activities for participating farmers.

Highway II & III
Before the oil boom, infrastructure investment rates in Azerbaijan were low and the country faced an investment deficit. As a result, most of the infrastructure is beyond its useful lifespan and overall quality and reliability are generally poor. Achieving Azerbaijan’s potential as a transit economy is essential for non-oil economic development and reduction of poverty, and improving the country’s road network is a key step in that process. The project aims to reduce road transport costs and improve access, transit and road safety within Azerbaijan‟s East-West and North-South corridors, as well as important regional roads. It will also provide technical assistance, training and goods, including technical assistance to improve road maintenance and project implementation capacity. So far, several sections of these roads have been completed.

Rural Investment Additional FinancingThe project aims to improve living standards in rural areas through improved access to infrastructure services for households in rural communities, which face two major issues:

Portable water supply is erratic for 30 percent of rural population

Farmers are forced to sell a majority of their produce to external agents at lower prices, because access to markets is limited.

The original project covered 21 districts targeting rural communities with high agricultural potential and incidence of poverty. Additional financing will expand the project to new areas, increase the number of beneficiaries, ensure greater cost efficiency and extend the life of the project. The progress made so far includes the rehabilitation of rural roads in over 300 communities and potable water supply systems in over 100 communities, giving them access to safe drinking water.

Health Sector ReformThis project aims to improve the overall health system stewardship and financing in Azerbaijan and to enhance equitable access to and quality of essential health care services in select districts where it will test new health care service delivery models. So far, results have included the construction of two general 100-bed hospitals and a number of village hospitals, development and approval of a master plan for health facilities and personnel which will guide the process of rationalization and optimization of health services across the country, changes to academic programs and teaching processes that have been accepted by the Ministry of Health and the medical university, and piloting of new per-case-provider payment mechanisms to replace historical budgetary allocations.

Second Education Sector Development ProjectSustainable, long-term reforms in the education sector are critical for Azerbaijan, given its desire to move up the ranks of upper middle-income countries. The Bank supports Azerbaijan’s education reform programs through investment operations and policy advice. This project’s objectives are mainly to make teaching more effective, to improve learning results, and overhaul the efficiency of education spending. Achievements so far include the development of subject curricula for secondary education levels, renovation of pilot schools to include a space for libraries and the financing of national student assessment studies.